Health Care Spending to Accelerate Over the Next Decade

As the democratic presidential candidates prepare to square off on health care issues at tonight's debate in Ohio, a new federal study points to accelerating growth in government spending on Medicare over the next ten years, as baby boomers become eligible for the healthcare entitlement program.

Mark Lennihan

Health care spending in the U.S. reached $2.2 trillion in 2007, just over 16% of the nation's gross domestic product, according to a new study released from economists at the Center for Medicare and Medicaid Services, known as CMS.

The economists expect spending on healthcare nearly to double over the next decade, reaching $4.3 trillion in 2017, roughly 19.5% of U.S. GDP, or nearly one-fifth of the economy.

The study's authors expect spending to grow at a steady annual rate of 6.7% over the next ten years, continuing to outpace inflation and economic growth. But underlying that stable outlook, is what study co-author Andrea Sisko calls a divergence in spending.

"Private spending growth is expected to decelerate," Sisko and her peers write in the study. "Growth in public spending, on the other hand, is expected to accelerate."

By 2017, just over 21% of national health care spending will go toward Medicare. Medicaid will account for another 17%, with private spending accounting for just 12%.

From a sector standpoint, the study's authors say spending for personal health care services, prescription drug medications, and home health care services will see the biggest growth over the next ten years.

"The growth rates are staggering, when you compare it to inflation," says health care analyst Les Funtleyder of Miller Tabak. Healthcare has not been acting as the traditional defensive sector during the current market turmoil, in part he believes because of the uncertainty over healthcare reform and the presidential election. But the report, he says, underscores the case for healthcare. "At some point it's going to dawn on investors there are opportunities on the long side."

Beyond pharmaceutical companies, Funtleyder sees drug manufacturers and distributors as good long-term investments. Johnson & Johnson , is a good bet he believes, with its position in the stent, orthopedic device and consumer healthcare products. He rates the stock a buy.

Shares of health insurers (HMO Index) have been under pressure this year, as some insurers reported higher medical costs during the fourth quarter of 2007. But Standard & Poor's analyst Phillip Seligman, sees the sector's growth in Medicare business as a positive long term trend.

"We continue to see the group as likely to deliver at least 15% annual EPS growth through 2009," Seligman wrote in a recent note to clients," fueled mainly by premium price hikes that outpace medical cost inflation, enrollment gains, including an influx of Medicare and Medicaidbeneficiaries into private health plan."

The authors of the CMS study say their estimates are based on "current-law" frame work, based on current federal spending projections. Their projections do not take into account current health care reform proposals.

But the report is likely to fuel the on-going debate over U.S. health care. "This projection of health care spending reminds us that we need to accelerate our efforts to improve our health care delivery system," Kerry Weems, acting CMS administrator said in a statement. "To makesure that Medicare and Medicaid are sustainable for future generations of beneficiaries andtaxpayers."